FINANCIAL DERIVATIVES

GOVERNING STANDARD
IFRS/PFRS- 9

Financial Instruments

IAS/PAS- 32

Financial Instruments: Presentation

IAS/PAS- 39

Financial Instruments: Recognition and Measurement

WHAT IS A DERIVATIVE?
A derivative is any security whose price is determined
by the value of another asset.
This asset is called the underlying security, or simply, the
underlying.

Underlying
Price
Change

Derivative
Price
Change

WHAT IS A DERIVATIVE? (CONT.)

Executory contract: exchange of promises about future
action

WHY DO DERIVATIVES EXIST?

TWO
PURPOSES
HEDGING

SPECULATION

TYPES OF FINANCIAL RISKS

PRICE RISK uncertainty about the future price of an asset.
CREDIT RISK uncertainty over whether a counterparty or party on
the other side of the contract will honor the terms of the contract.

INTEREST RATE RISK uncertainty about the future interest rates

and their impact on cash flows and the fair value of the financial
instruments.

FOREIGN CURRENCY RISK

uncertainty about future Philippine

Peso cash flows stemming from assets and liabilities denominated in
foreign currency.

CHARACTERISTICS OF DERIVATIVE
There are three criteria to the accounting definition of a derivative:

a) There are i) one of more underlyings and ii) one or more notionals
or payment provisions, or both;

- The underlying is generally a referenced rate, index or measurable

event.
- The notional amount may be a number of units (bushels or pounds
for
example), a number shares, a specified fixed dollar amount or
some other unit of measure specified in the instrument.

CHARACTERISTICS OF DERIVATIVE (CONT.)

b) There is no initial investment or an investment that is smaller than that
normally expected of a contract that responds to market changes in a
similar manner (i.e., delivers net gains and losses);

c) The contract can be net settled under the contract terms (i.e., the party
in the net loss position pays the party in the net gain position), through a
market mechanism (e.g., the contract trades on an exchanged) or by
delivery of a derivative or delivery of an asset that is readily convertible to
cash (e.g., publicly traded stock).

MEASUREMENT
All derivatives in scope of IFRS 9, including those linked to
unquoted equity investments, are measured at fair value.

Value changes are recognized in profit or loss unless the

entity has elected to apply hedge.
*Special rules apply to hedging instruments.